The Minister of Social Affairs and Employment in the Netherlands is investigating whether Dutch pension funds should change the way in which they implement pension schemes. This is to take account of possible developments in European competition law. The minister is considering requiring pension funds to split the pension fund itself from the organisation responsible for implementing its core tasks, namely pension administration (including collections and payments), information provision and asset management.
Full mandatory outsourcing would have major consequences for the two largest self-administered pension funds in the Netherlands, ABP and PGGM. The impact on most other Dutch pension funds would be less great, given that they have already outsourced their core tasks.

The issue is whether developments in European competition law warrant the drastic measure contemplated by the minister. Research indicates that there is no justification whatsoever.
In this article I shall consider other aspects relating to outsourcing: (i) advantages and disadvantages, (ii) risks and (iii) the consequences for the supervision of pension funds.
Outsourcing: In general terms, outsourcing has a number of advantages:
q It provides access to knowledge and skills which an entity would not be able to acquire or maintain on its own;
q Flexibility: it is easier to enter into and terminate a contract than to set up and – if necessary – dismantle an in-house personnel structure;
q Outsourcing provides benefits of scale, such as cost savings and greater efficiency;
q It enhances the role of market forces, contributing to improvements in performance and objective performance assessment;
q The principal can concentrate on essential tasks; he does not have to concern himself in detail with personnel policy, IT-issues and customer contacts.
Nevertheless, a number of caveats need to be entered with regard to the trend towards outsourcing by financial institutions. These mostly concern asset management.
Conflicts of interest: There is a natural opposition of interests between the principal and his agent. The asset manager who has control of the pension fund’s investments is by nature inclined to use them to serve his own interests rather than those of his principal. Numerous rules have been developed with a view to containing the associated risks. These have to be enshrined in contracts and legal provisions and compliance must be supervised – by the principal (who must not rely blindly on his asset manager), the asset manager (who wishes to fulfil his obligations faithfully and avoid legal liability) and the supervisor appointed by the government. This is an expensive process.
Risks associated with outsourcing: The Joint Forum is a grouping of supervisory bodies: the Basel Committee on Banking Supervision (BCBS), the International Organisation of Securities Commissions (IOSCO) and the International Association of Insurance Supervisors (IAIS). The Joint Forum has identified a large number of risks which the outsourcing entity will have to control. These include strategic, reputational, operational, compliance, contractual, concentration and system risks. For an explanation of these risks I refer to the consultation document: It implies that outsourcing gives rise to the following concerns:
q How does the pension fund maintain control of its core activities and how can it continue to control its business risks?
q How does the pension fund know that it is acting in accordance with the requirements, including those relating to financial supervision?
q How can the pension fund demonstrate to its supervisors that it is complying with the requirements?
Professionalism/expertise: The pension fund must act as a professional service provider in the manner which may reasonably be demanded of an agent who has sufficient insight and experience and fulfils his duties in a meticulous and committed way. Professionalism applies in two ways:
For the stakeholders (the members, pensioners and employer(s)), the pension fund must meet the requirements incumbent upon a good agent. Examples include proper information provision, expert promotion of interests and protection against insolvency.
On the other hand, if outsourcing takes place, the pension fund also operates as a principal. In that capacity it must guarantee that, in spite of the outsourcing, it has sufficient expertise to control all processes associated with its core activities.
A pension fund which has to outsource all core tasks and therefore does not have its own personnel structure is not readily able to fulfil these requirements. This places the governing board of the pension fund in a difficult position. As representatives of employers and employees, they are not primarily appointed because of their specific expertise in the field of pension administration, pension law or asset management. They fulfil their duties on an ancillary, part-time basis. Can they bear responsibility for the operation of the pension fund if they are compelled to leave the associated tasks entirely in the hands of others or even outsource them completely?
The minister recognises this problem. He wants to allow pension funds to employ people to support the board in the implementation of its tasks. I doubt, however, whether such support will be sufficient to promote the pension fund’s interests in an optimum way. The pension fund has to fulfil a complex range of tasks. The opposition of interests increases as the distance between the pension fund and the management organisation widens. That makes it difficult to control the risks associated with outsourcing.
Liability: If the pension fund does not perform in the way that may be expected of a professional service provider, the stakeholders may suffer damage. They may then hold the pension fund liable. Under Dutch law, a pension fund which outsources tasks remains responsible and liable in principle for the performance of the service provider. The service provider usually limits his liability. Hence, if the pension fund is liable towards the stakeholders, it cannot pass the consequences on to the service provider.
The asset managers engaged by the pension fund are an example of this. They include extensive liability limits in their contracts. Only the very large pension funds have sufficient negotiating power to insist on liability for any culpable deficiencies on the part of an asset manager. And even if liability is established, an asset manager will often be insufficiently capitalised to compensate for losses incurred by the pension fund.

In a chain of outsourcing relationships – the regulator speaks of “primary outsourcing” and “secondary outsourcing” – the limitations of liability increase. An asset manager who is engaged by the pension fund and who in turn uses a subcontractor normally only accepts liability for the careful selection and contracting of such service providers.
The limitations of liability in these cumulative agency relationships ultimately operate to the detriment of the stakeholders of the pension fund. They run the risk that at some point in the chain damage will be uncompensated and that no compensation will be forthcoming from any other party.
The question arises of how to limit the risk of damage to stakeholders as a result of underperformance by the pension fund or its service providers. In my view, the best safeguard for stakeholders is an efficient pension fund which has optimum control of its core tasks. Such control, however, is at odds with the nature of outsourcing.
Supervision: Mandatory separation between the pension fund and management organisation gives rise to various supervision issues.
The minister believes that, as social institutions, pension funds primarily fall within his remit, while the separate implementing organisations are within the purview of the Minister of Finance. But it is difficult to maintain such a separation. The Minister of Finance is politically responsible for prudential supervision (balance sheet management – solvency – and operational management requirements) and conduct supervision (the expertise and integrity of the pension fund and its directors), which De Nederlandsche Bank and the Netherlands Authority for the Financial Markets exercise in respect of the pension fund. General supervision requirements relating to the governance of professional financial institutions are increasingly being declared applicable to pension funds. That is understandable because the conduct of pension funds and the financing of pension schemes have a major influence on macroeconomic developments and the stability of financial markets. There are also consequences for the responsibility of the pension fund and its board members. They must ensure that the pension fund operates correctly, including as a financial institution.
There are more reasons why properly performing pension funds are in the interest of the supervisor. A supervisor who does not intervene in a poorly performing pension fund risks being held liable by the stakeholders for the resulting damage. This is demonstrated by the court judgment in the case of Vie d’Or, an insurance company which ran into financial difficulties as a result of mismanagement. In that light it is remarkable that the minister wishes to impose outsourcing on all pension funds, without differentiating in terms of scale and quality. For pension funds such as ABP and PGGM, this will give rise to new risks, control measures, supervision and costs.
Scale is important: Approximately 800 pension funds are registered in the Netherlands. If a large number of small pension funds were merged to form a larger entity, pension funds would be able to professionalise, increase their risk-bearing capacity and take advantage of benefits of scale. That would considerably simplify their supervision. Such a movement is unlikely to be stimulated by mandatory outsourcing; with the Minister’s blessing, small pension funds could hide behind the implementing organisations and claim that they have solved their expertise problem.
Personal opinion: The question of whether outsourcing is beneficial depends on the facts and circumstances of the individual case. The balance of advantages and disadvantages will lead to a different outcome in a small industry pension fund than in a company pension fund or a large industry pension fund such as ABP. The disadvantages cannot be qualified with the statement that almost all pension funds in the Netherlands now apply this outsourcing model. That trend was born out of need; it actually indicates that a professional, self-administering pension fund requires a critical mass. The assertion that the outsourcing model has led to no known ‘accidents’ is a similarly inadequate defence. Any loss of income (‘opportunity cost’) is not visible; it may well be the case that the self-administering pension model performs better (provided certain conditions are met).
The EU Pensions Directive gives pension funds the freedom and responsibility to organise their activities as they see fit, on the basis of self-administration or full or partial outsourcing. The Netherlands has a number of internationally respected self-administered pension funds. Why would the Dutch legislator wish to weaken them unnecessarily?
René Maatman is chief counsel at ABP and author of ‘Dutch Pension Funds – Fidiciary duties and investing’, published by Kluwer Legal Publishers